Once one of the standard bearers for the travails of the eurozone, Portugal appears to be in the early stages of a recovery, one in which its revitalised banks are playing a leading role – albeit heavily backed by foreign investment. Peter Wise reports.

Millennium BCP

Over the next few months, Portuguese banks will complete a transformation that will leave little in the sector as it was before. The change, triggered by the global financial crisis, is affecting ownership, scale, capital strength, business models and international reach. By the start of 2018, lenders are confident they will have emerged from years of heavy losses and deep restructuring in a better position to generate sustained profitability.

Nuno Amado, chief executive of Millennium bcp, describes the changes he has overseen at Portugal’s largest listed bank as a “profound restructuring”. It meant “working hard to strengthen our capital ratios, reduce our non-performing exposures and further improve our efficiency”, he says. “We have repaid our state aid without costing taxpayers a penny and now have capital ratios significantly higher than required by the supervisory authority.”

Similar changes have been under way at other Portuguese lenders, albeit at differing speeds. In recent months, large-scale transformations have been taking place or are about to be made at several banks through large injections of fresh capital. The new money will help four of the top five banks take further steps to cleanse their books of bad debts and ease the burden of provisioning that has held back their profitability in recent years.

The influx of capital has helped instil a new mood of cautious optimism in a banking sector that has suffered through six gruelling years of crisis, recession and an international bailout, during which the country’s third largest lender, Banco Espírito Santo (BES), collapsed and several smaller banks fell by the wayside.

Looking up

“The banking sector is clearly in better situation than at the beginning of 2016,” says António Vieira Monteiro, chief executive of Santander Totta, a subsidiary of the Spanish group and Portugal’s fourth largest lender by market share. “Last year was a complex one for the sector, involving restructuring processes, capital increases and asset sales. But these all contributed to a stronger general situation.”

In February, Millennium concluded a €1.33bn capital increase in which Fosun, China’s largest private conglomerate, increased its stake in the bank to 24%, having purchased 17% three months earlier. Fosun, already Millennium’s largest shareholder, ahead of Angola’s Sonangol with 15%, is committed to increasing its holding to 30%. “Millennium is now in a much better condition to take advantage of our position as the leading listed bank in the Portuguese market with a strong international portfolio,” says Mr Amado.

Immediately after the capital increase, one of the first by a European bank this year and 23% oversubscribed, Millennium paid off the remaining €700m tranche of state aid that it had received in the form of contingent convertible bonds (cocos). The €5.8bn that the state injected into four lenders at the height of Portugal’s sovereign debt crisis has now all been repaid, except for €125m outstanding from Banco Internacional de Funchal (Banif) that is covered by an insolvency agreement and not expected to be repaid. The government earned almost €1.3bn in interest on the cocos, which were remunerated at about 8.5%, significantly above market rates.

The day after Millennium announced the results of its capital increase, Caixabank, Spain’s largest domestic lender, completed a takeover of Banco BPI, the smallest of Portugal’s top five banks with a market share of about 10%. In a deal that took almost two years to complete, the Spanish group paid €645m to increase its long-held stake in BPI from 45% to 84.5%. Following the transaction, Fernando Ulrich, BPI chief executive since 2004, is expected to become chairman of the bank, with Caixabank’s Pablo Forer taking over as CEO. “This was a family takeover,” Mr Ulrich said afterwards. “I strongly believe this is the best solution for the bank and its customers.”

Complex solutions

In the coming months, Portugal’s largest bank, state-owned Caixa Geral de Depositos (CGD), is also scheduled to benefit from a €5bn recapitalisation package, the result of protracted negotiations between Lisbon and the European Commission. The plan involves a direct injection of €2.7bn by the state, the conversion of €960m of cocos into equity, transferring €500m in government shares in a CGD subsidiary to the bank and raising €1bn in subordinated debt from private investors.

A first €500m additional Tier 1 placement this year is seen as a key test of the appetite of institutional investors for CGD’s subordinated debt and is also a condition for the whole package to go ahead. The EU requires the recapitalisation to be made “under market conditions” and to generate positive returns for the government, the sole shareholder, so as not to constitute state aid. A second €500m placement for institutions is scheduled to be launched within 18 months of the first.

Finance minister Mário Centeno describes the CGD package as “an innovative deal in Europe”, targeting an adequate return for the state “under conditions identical to those that would be accepted by a private investor”. The plan, he says, also involves cost-cutting, risk reduction and other efficiency measures aimed at “restoring CGD to long-term health”. The bank, which accounts for more than 25% of Portugal’s banking market, posted a net loss of €189m for the first nine months of 2016, while its common equity Tier 1 ratio fell to 10.2% from 10.7% a year earlier.

The recapitalisation of CGD, initially expected in 2016, has been delayed by a long-running political spat over whether or not a new board appointed to implement the plan had been exempted by the government from rules requiring state employees in senior management positions to declare their assets. Six board members appointed in August 2016 quit in November over the issue, leading to the appointment of a new board led by Paulo Macedo, a former health minister and vice-chairman of Millennium.

US intervention

Selling Novo Banco, the ‘good bank’ salvaged from the wreckage of BES in 2014, is the final step in completing the recapitalising of Portugal’s leading banks. A first attempt to sell the lender was abandoned in September 2015 due to a lack of acceptable offers. But in February this year, the Bank of Portugal announced that it was entering “concluding” talks with Lone Star, a US private equity fund, “with a view to finalising the possible terms of sale”.

According to Lisbon bankers, Lone Star has offered to inject about Ä1bn into Novo Banco, raising the question of how much the US fund might pay Portugal’s bank resolution fund, the bank’s only shareholder. Lone Star is understood to be seeking about 65% of Novo Banco, with the resolution fund, owned by all Portuguese banks, remaining with 25% and about 10% being acquired by local investors. A potential deal, however, could undergo significant changes in the final stages of negotiation.

Whatever the outcome, the banking sector is expected to suffer a heavy loss on the sale. The resolution fund received a €3.9bn state loan to finance the €4.9bn bailout of Novo Banco. Any shortfall on the sale will have to be met by the resolution fund, to which all Portuguese lenders have to contribute in amounts relative to their size. Banks are expected to be given about 25 years to make good any loss to the fund.

The financial sector that emerges following the closing of a deal on Novo Banco will be radically transformed. Foreign shareholders, two of them Spanish, will control three of the top five banks: Novo Banco, Santander Totta and BPI. The leading shareholders of Millennium will be Chinese and Angolan. Only state-owned CGD will have a dominant Portuguese shareholder. Opinions are divided on how much this matters.

“All foreign capital is welcome in Portugal as long as it complies with European and Portuguese law and supervision,” says Mr Vieira Monteiro of Santander Totta. His position is shared by the Lisbon government. Mr Amado of Millennium notes that “non-national group ownership is high in Portugal” compared with other European countries. “It is important that banks here remain committed to supporting the growth of the Portuguese economy,” he adds. 

Millennium is unique in Portugal in having a free float of almost 60% with retail investors owning about 30% of the bank, Mr Amado says, adding: “Our management and decision-making centre remains in Portugal, our main market.” 

Good neighbours

Portugal has always been vulnerable to business takeovers by companies from its powerful Iberian neighbour, although Spanish lenders such as Caixabank and Santander have been operating in the country for decades. Fears over the potential ‘Hispanisation’ of Portuguese banking have recently been expressed in the media.

Banking analysts, however, say Spanish banks with competitive cost-to-income ratios will inevitably seek to expand into Portugal whenever they can produce better returns than less competitive local operators. This became all the more likely because the market value of Portuguese banks fell by more than 80% over the past five years, according to Organisation for Economic Co-operation and Development figures.

In addition to Caixabank taking full control of BPI, Santander paid €150m in late 2015 for the healthy assets of Banif in the context of a €2.2bn state rescue of the Madeira-based bank, which had been placed under state control during the sovereign debt crisis. Spain’s Bankinter bought Barclay’s Portuguese operations for about €175m in 2015. As one Lisbon banker puts it: “The simple truth is that Portugal no longer has domestic investors able and willing to raise the huge amount of capital needed to control a bank.”

As they complete their recapitalisation programmes and ownership structures stabilise, Portuguese banks are tightening their focus on profitability. Although the European business climate remains difficult, they see the outlook as gradually brightening. “Low and even negative interest rates and very low economic growth make it difficult to maintain profitability in key business lines,” says Mr Amado of Millennium. “But there has been an improvement in the economy and the banking sector is producing operating profitability, before impairments, already at or above pre-crisis levels.”

In investment banking, Joaquim de Souza, chief executive of Caixa-Banco de Investimento, sees banks adjusting their cost structures and scaling down in a sector where there has been overcapacity. The equity market is shrinking, he says, with a number of leading companies effectively delisting from the Lisbon stock exchange as they were taken over by foreign shareholders. Growth areas include infrastructure investment, backed by EU structural funds, in energy, ports, railways and, potentially, a new Lisbon airport, as well as mergers and acquisitions, as banks and other companies sell off non-core and distressed assets. 

NPL burden

The underlying problem for banks in Portugal, as elsewhere in Europe, has been the weight of non-performing loans (NPLs) on their balance sheets and the cost of provisioning and write-offs. André Rodrigues, a banking analyst at CaixaBI, estimates that on average impairments cost Portuguese banks annual losses equal to 1.5% of their loan portfolios in 2015 and 2016, about double the average in core European countries.

The distribution of NPLs varies widely from bank to bank, and some tackled the problem earlier and more vigorously than others. Millennium, for example, has reduced NPLs by Ä1bn a year since 2013, while simultaneously increasing cash and total coverage. “We were one of the few banks that grasped the nettle early and did the difficult work of restructuring without any delay,” says Mr Amado.

Using data provided by the Portuguese Banking Association, Mr Rodrigues says the number of bank employees and branches in Portugal has dropped by about 20% and 25% respectively over the past five to six years. Yet cost-to-income ratios, averaging about 60%, remain high compared with most other eurozone countries. At about 47 per 100,000 inhabitants (down from more than 80 in 2011), Portugal still has one of Europe’s highest densities of bank branches.

Further downsizing is inevitable, bankers agree, not just to achieve more competitive cost ratios but also to keep pace with the rise of digital banking. “Bankers will have to adapt to the new digital needs of the market and to the digital challenges from fintech companies and other operators,” says Mr Vieira Monteiro. “The banks that come out on top will be those that can match traditional with innovative banking.” 

Mr de Souza of CaixaBI says: “The way people relate to banks in the digital age means many branches will become stranded assets of little value. The winners will be the banks that are faster at restructuring, cutting costs and adjusting their networks to the new technologies.”


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